Financial environment 3

Financial Environment 3

NBFCs & Banking

A Non-Banking Financial Company (NBFC) is a company registered under the Companies Act, 1956 and is engaged in the business of loans and advances, acquisition of shares/stock/bonds/debentures/ securities issued by Government or local authority or other securities of like marketable nature, leasing, hire-purchase, insurance business, chit business.

It does not include any institution whose principal business is that of agriculture activity, industrial activity, sale/purchase/construction of immovable property.

A non-banking institution which is a company and which has its principal business of receiving deposits under any scheme or arrangement or any other manner, or lending in any manner is also a non-banking financial company (Residuary non-banking company).

NBFCs are doing functions similar to banks. What is difference between banks & NBFCs ?

NBFCs are doing functions akin to that of banks, however there are a few differences:

(i) a NBFC cannot accept demand deposits; An account from which deposited funds can be withdrawn at any time without any notice to the depository institution.

(ii) it is not a part of the payment and settlement system and as such cannot issue cheques to its customers; and (iii) deposit insurance facility of DICGC is not available for NBFC depositors unlike in case of banks.

Is it necessary that every NBFC should be registered with RBI?

In terms of Section 45-IA of the RBI Act, 1934, it is mandatory that every NBFC should be registered with RBI to commence or carry on any business of non-banking financial institution as defined in clause (a) of Section 45 I of the RBI Act, 1934.

However, to obviate dual regulation, certain category of NBFCs which are regulated by other regulators are exempted from the requirement of registration with RBI viz. Venture Capital Fund/Merchant Banking companies/Stock broking companies registered with SEBI, Insurance Company holding a valid Certificate of Registration issued by IRDA, Nidhi companies (Nidhi company is a company registered under Companies Act and notified as a nidhi company by Central Government under Section 620-A of Companies Act. It is a non-banking finance company doing the business of lending and borrowing with its members or shareholders.) as notified under Section 620A of the Companies Act, 1956, Chit companies as defined in clause (b) of Section 2 of the Chit Funds Act, 1982 or Housing Finance Companies regulated by National Housing Bank.

What are the different types of NBFCs registered with RBI?

The NBFCs that are registered with RBI are:

(i) equipment leasing company; (ii) hire-purchase company; (iii) loan company; (iv) investment company.

With effect from December 6, 2006 the above NBFCs registered with RBI have been reclassified as

(i) Asset Finance Company (AFC)(ii) Investment Company (IC)(iii) Loan Company (LC)

AFC would be defined as any company which is a financial institution carrying on as its principal business the financing of physical assets supporting productive / economic activity, such as automobiles, tractors, lathe machines, generator sets, earth moving and material handling equipments, moving on own power and general purpose industrial machines. Principal business for this purpose is defined as aggregate of financing real/physical assets supporting economic activity and income arising there from is not less than 60% of its total assets and total income respectively.

The above type of companies may be further classified into those accepting deposits or those not accepting deposits.

Besides the above class of NBFCs the Residuary Non-Banking Companies are also registered as NBFC with the Bank.

What are the requirements for registration with RBI?

A company incorporated under the Companies Act, 1956 and desirous of commencing business of non-banking financial institution as defined under Section 45 I(a) of the RBI Act, 1934 should have a minimum net owned fund of Rs 25 lakh (raised to Rs 200 lakh w.e.f April 21, 1999). The company is required to submit its application for registration in the prescribed format alongwith necessary documents for Bank’s consideration. The Bank issues Certificate of Registration after satisfying itself that the conditions as enumerated in Section 45-IA of the RBI Act, 1934 are satisfied.

Where one can find list of Registered NBFCs and instructions issued to NBFCs?

The list of registered NBFCs is available on the web site of Reserve Bank of India and can be viewed at www.rbi.org.in. The instructions issued to NBFCs from time to time are also hosted at the above site. Besides, instructions are also issued through Official Gazette notifications. Press Release is also issued to draw attention of the public/NBFCs

Can all NBFCs accept deposits and what are the requirements for accepting Public Deposits?

All NBFCs are not entitled to accept public deposits. Only those NBFCs holding a valid Certificate of Registration with authorisation to accept Public Deposits can accept/hold public deposits. The NBFCs accepting public deposits should have minimum stipulated Net Owned Fund and comply with the Directions issued by the Bank.

Is there any ceiling on acceptance of Public Deposits? What is the rate of interest and period of deposit which NBFCs can accept?

Yes, there is ceiling on acceptance of Public Deposits. A NBFC maintaining required NOF/CRAR and complying with the prudential norms can accept public deposits as follows:

Category of NBFC Ceiling on public deposits

AFCs maintaining CRAR of 15% without credit rating

AFCs with CRAR of 12% and having minimum investment grade credit rating

1.5 times of NOF (Net Owned Fund) or Rs 10 crorewhichever is less

4 times of NOF

LC/IC with CRAR of 15% and having minimum investment grade credit rating

1.5 times of NOF

Presently, the maximum rate of interest a NBFC can offer is 11%. The interest may be paid or compounded at rests not shorter than monthly rests.

The NBFCs are allowed to accept/renew public deposits for a minimum period of 12 months and maximum period of 60 months. They cannot accept deposits repayable on demand.

The RNBCs have different norms for acceptance of deposits which are explained elsewhere in this booklet.

What are the salient features of NBFCs regulations which the depositor may note at the times of investment?

Some of the important regulations relating to acceptance of deposits by NBFCs are as under:

i) The NBFCs are allowed to accept/renew public deposits for a minimum period of 12 months and maximum period of 60 months. They cannot accept deposits repayable on demand.ii) NBFCs cannot offer interest rates higher than the ceiling rate prescribed by RBI from time to time. The present ceiling is 11 per cent per annum. The interest may be paid or compounded at rests not shorter than monthly rests. iii) NBFCs cannot offer gifts/incentives or any other additional benefit to the depositors.iv) NBFCs (except certain AFCs) should have minimum investment grade credit rating. v) The deposits with NBFCs are not insured.vi) The repayment of deposits by NBFCs is not guaranteed by RBI.vii) There are certain mandatory disclosures about the company in the Application Form issued by the company soliciting deposits.

What is ‘deposit’ and ‘public deposit’? Is it defined anywhere?

The term ‘deposit’ is defined under Section 45 I(bb) of the RBI Act, 1934. ‘Deposit’ includes and shall be deemed always to have included any receipt of money by way of deposit or loan or in any other form but does not include:

amount raised by way of share capital, or contributed as capital by partners of a firm;

amount received from scheduled bank, co-operative bank, a banking company, State Financial Corporation, IDBI or any other institution specified by RBI;

amount received by a registered money lender other than a body corporate;

amount received in ordinary course of business by way of security deposit, dealership deposit, earnest money, advance against orders for goods, properties or services;

amount received by way of subscriptions in respect of a ‘Chit’.

Paragraph 2(1)(xii) of the Non-Banking Financial Companies Acceptance of Public Deposits ( Reserve Bank) Directions, 1998 defines a ‘ public deposit’ as a ‘deposit’ as defined under Section 45 I(bb) of the RBI Act, 1934 and further excludes the following:

amount received from the Central/State Government or any other source where repayment is guaranteed by Central/State Government or any amount received from local authority or foreign government or any foreign citizen/authority/person;

any amount received from financial institutions;

any amount received from other company as inter-corporate deposit;

amount received by way of subscriptions to shares, stock, bonds or debentures pending allotment or by way of calls in advance if such amount is not repayable to the members under the articles of association of the company;

amount received from shareholders by private company;

amount received from directors or relative of the director of a NBFC;

amount raised by issue of bonds or debentures secured by mortgage of any immovable property or other asset of the company subject to conditions

the amount brought in by the promoters by way of unsecured loan;

amount received from a mutual fund;

any amount received as hybrid debt or subordinated debt;

any amount received by issuance of Commercial Paper.

Thus, the directions have sought to exclude from the definition of public deposit amount raised from certain set of informed lenders who can make independent decision.

Are Secured debentures treated as Public Deposit? If not who regulates them?

Debentures secured by the mortgage of any immovable property or other asset of the company if the amount raised does not exceed the market value of the said immovable property or other asset are excluded from the definition of ‘Public Deposit’ in terms of Non-Banking Financial Companies Acceptance of Public Deposits (Reserve Bank) Directions, 1998. Secured debentures are debt instruments and are regulated by Securities & Exchange Board of India.

What else should a depositor bear in mind while depositing money with NBFCs?

While making deposits with a NBFC, the following aspects should be borne in mind:

(i) Public deposits are unsecured. (ii) A proper deposit receipt which should, besides the name of the depositor/s state the date of deposit, the amount in words and figures, rate of interest payable and the date of maturity should be insisted. The receipt shall be duly signed by an officer authorised by the company in that behalf.(iii) The Reserve Bank of India does not accept any responsibility or guarantee about the present position as to the financial soundness of the company or for the correctness of any of the statements or representations made or opinions expressed by the company and for repayment of deposits/discharge of the liabilities by the company.

It is said that rating of NBFCs is necessary before it accepts deposit? Is it true? Who rates them?

An unrated NBFC, except certain Asset Finance companies (AFC), cannot accept public deposits. An exception is made in case of unrated AFC companies with CRAR of 15% which can accept public deposit up to 1.5 times of the NOF or Rs 10 crore whichever is lower without having a credit rating. A NBFC may get itself rated by any of the four rating agencies namely, CRISIL, CARE, ICRA and FITCH Ratings India Pvt. Ltd.

What are the symbols of minimum investment grade rating of different companies?

The symbols of minimum investment grade rating of the Credit rating agencies are:

Name of rating agencies

Level of minimum investment

grade credit rating (MIGR)

CRISIL FA- (FA MINUS)

ICRA MA- (MA MINUS)

CARE CARE BBB (FD)

FITCH Ratings India Pvt. Ltd

tA-(ind)(FD)

When a company’s rating is downgraded, does it have to bring down its level of public deposits immediately or over a period of time?

If rating of a NBFC is downgraded to below minimum investment grade rating, it has to stop accepting public deposit, report the position within fifteen working days to the RBI and reduce within three years from the date of such downgrading of credit rating, the amount of excess public deposit to nil or to the appropriate extent permissible under paragraph 4(4) of Non-Banking Financial Companies Acceptance of Public Deposits ( Reserve Bank) Directions, 1998; however such NBFC can renew the matured public deposits subject to repayment stipulations specified above and compliance with other conditions for acceptance of deposits.

Banking

• A bank is a financial institution that serves as a financial intermediary. The term "bank" may refer to one of several related types of entities like Central Bank, Commercial Banks, Savings Bank

• Liquidity– Liquidity for a bank means the ability to meet its financial obligations as they come

due. Bank lending finances investments in relatively illiquid assets, but it funds its loans with mostly short term liabilities. Thus one of the main challenges to a bank is ensuring its own liquidity under all reasonable conditions. Banks are expected to hold voluntarily a part of their deposits in the form of ready cash which is known as cash reserves

• Creation of Money• Scheduled Banks

– Scheduled Banks in India constitute those banks which have been included in the Second Schedule of Reserve Bank of India(RBI) Act, 1934. RBI in turn includes only those banks in this schedule which satisfy the criteria laid down vide section 42 (6) (a) of the Act.

The banks included in this schedule list should fulfil two conditions. 1. The paid capital and collected funds of bank should not be less than Rs. 5 lac. 2.Any activity of the bank will not adversely affect the interests of depositors.

Every Scheduled bank enjoys the following facilitiess. 1. Such bank becomes eligible for debts/loans on bank rate from the RBI 2. Such bank automatically acquire the membership of clearing house.

– Example in Public Sector: SBI, SBI associates, Bank of Baroda, BOM, Canara Bank– Examples in Private Sector: Axis, ICICI, HDFC, American Express, Deutsche Bank AG

• Regional Rural Banks– Regional Rural Banks were established under the provisions of an

Ordinance promulgated on the 26th September 1975 and the RRB Act, 1976 with an objective to ensure sufficient institutional credit for agriculture and other rural sectors. The RRBs mobilize financial resources from rural / semi-urban areas and grant loans and advances mostly to small and marginal farmers, agricultural laborers and rural artisans. The area of operation of RRBs is limited to the area as notified by GoI covering one or more districts in the State. 5.02 RRBs are jointly owned by GoI, the concerned State Government and Sponsor Banks (27 scheduled commercial banks and one State Cooperative Bank); Capital share being 50% by the central government, 15% by the state government and 35% by the scheduled bank.

Examples: Ka Bank Nogkyndong Ri Khasi- Jaintia, Arunachal Pradesh Rural Bank, Meghalaya Rural Bank

• Branch Banking– Engaging in banking activities such as accepting deposits or making

loans at facilities away from a bank's home office. Branch banking has gone through significant changes since the 1980s in response to a more competitive nationwide financial services market. Financial innovation such as internet banking will greatly influence the future of branch banking by potentially reducing the need to maintain extensive branch networks to service consumers.

Privatization of Banks

Components of a Bank Balance sheet

Liabilities Assets

1. Capital2. Reserve & Surplus3. Deposits4. Borrowings5. Other Liabilities

1. Cash & Balances with RBI

2. Bal. With Banks & Money at Call and Short Notices

3. Investments4. Advances5. Fixed Assets6. Other Assets

Contingent Liabilities

Components of Liabilities

1. Capital:

Capital represents owner’s contribution/stake in the bank.

- It serves as a cushion for depositors and creditors.

- It is considered to be a long term sources for the bank.


2. Reserves & SurplusComponents under this head includes:I. Statutory ReservesII. Capital Reserves III. Investment Fluctuation Reserve

IV. Revenue and Other ReservesV. Balance in Profit and Loss Account


3. DepositsThis is the main source of bank’s funds. The deposits are classified as deposits payable on ‘demand’ and ‘time’. They are reflected in balance sheet as under:

I. Demand Deposits

II. Savings Bank Deposits

III. Term Deposits


4. Borrowings(Borrowings include Refinance / Borrowings from RBI, Inter-bank & other institutions)

I. Borrowings in India

i) Reserve Bank of India

ii) Other Banks

iii) Other Institutions & Agencies

II. Borrowings outside India


5. Other Liabilities & ProvisionsIt is grouped as under:

I. Bills Payable II. Inter Office Adjustments (Net) III. Interest Accrued IV. Unsecured Redeemable Bonds (Subordinated Debt for Tier-II Capital) V. Others(including provisions)

Components of Assets

1. Cash & Bank Balances with RBI I. Cash in hand

(including foreign currency notes)

II. Balances with Reserve Bank of India

In Current Accounts

In Other Accounts

Components of Assets2. BALANCES WITH BANKS AND

MONEY AT CALL & SHORT NOTICE I. In India

i) Balances with Banks a) In Current Accounts b) In Other Deposit Accounts

ii) Money at Call and Short Notice a) With Banks b) With Other InstitutionsII. Outside India a) In Current Accounts b) In Other Deposit Accounts c) Money at Call & Short Notice

Components of Assets3. Investments

A major asset item in the bank’s balance sheet. Reflected under 6 buckets as under:

I. Investments in India in : * i) Government Securities

ii) Other approved Securities iii) Shares iv) Debentures and Bonds v) Subsidiaries and Sponsored Institutions vi) Others (UTI Shares , Commercial Papers, COD & Mutual Fund Units etc.)II. Investments outside India in ** Subsidiaries and/or Associates abroad

Components of Assets

4. AdvancesThe most important assets for a bank.A. i) Bills Purchased and Discounted

ii) Cash Credits, Overdrafts & Loans

repayable on demand

iii) Term Loans

B. Particulars of Advances :

i) Secured by tangible assets

(including advances against Book Debts)

ii) Covered by Bank/ Government Guarantees

iii) Unsecured

Components of Assets5. Fixed Asset I. Premises

II. Other Fixed Assets (Including furniture and fixtures)

6. Other Assets I. Interest accrued

II. Tax paid in advance/tax deducted at source

(Net of Provisions)

III. Stationery and Stamps

IV. Non-banking assets acquired in satisfaction of claims

V. Deferred Tax Asset (Net)

VI. Others

Education

Financial environment 3